The business of commercial banks is said to be to "lend" or "discount" and to hold deposits. A third function may be combined with the above two, that is, the issuance of bank notes or the bank's own promises to pay, for use in general circulation, as a substitute for money.

Borrowers procure loans from banks for the purpose of providing themselves with the means either of making some purchase or of paying some debts. They seek, therefore, to obtain not necessarily money, but a certain amount of purchasing power in available form or whatever may be the usual mediums of payment-measured in terms of money.

If we suppose the prospective borrower to be a merchant, buying and selling goods on credit, in the regular course of his business, he is likely at any given time to have in his hands a greater or lesser number of notes not yet due signed by the persons to whom he has previously made sales. It is in the form of a loan, made upon the security of one or more of these notes giving him immediate command of the amount which will become due upon them in the future, that he is likely to procure what he needs from the bank. This loan may take the form of what is termed a discount, in which case, in exchange for the note "discounted," the borrower is entitled to receive from the bank the amount promised in the note, less the interest on that amount, computed at an agreed rate, for the term which the note has still to run. The discounted note becomes the property of the bank, to which the promisor is henceforward bound to make payment at maturity, and this payment, when made, obviously restores to the bank the amount advanced by it in exchange for the note, together with interest, which was the inducement for making the exchange.

The above operation is generally spoken of as a loan by the bank to a borrower. But, however, it is more than a mere loan. When the note was given to the bank, it bore evidence that its holder owned the right to receive at a fixed date, a certain sum of money, and this right the so-called borrower has ceded to the bank. We might consider this as a sale to the bank of a right to receive money in the future, in the same manner as a sale of a bale of silk. Immediately upon its transfer to the bank for a consideration, the note takes its place among the investments or securities of the bank, though it still retains its classification as a loan or discount.

We may now consider what it is that the bank gives in exchange for the right to demand and receive money at a future time, acquired by it under these circumstances. The proceeds of the discounted note or its nominal amount, less the interest for the time for which it is to run, are, in the first instance placed to the credit of the merchant, to be drawn out by him at once, or at different times as convenience or necessity may dictate. The bank, in giving credit for the proceeds, gives really a right to call upon it, at pleasure, for that sum of money. This right may not be exercised at once, but may be postponed as regards the whole or a part of the amount until a much later date. The process is therefore an exchange of rights, that ceded by the merchant to the bank in exchange for the bank's right to demand or to draw against it an equivalent sum.

A deposit, however, may owe its origin to a different operation from that above cited. It might be that the merchant, having cash in hand, prefers not to hold it in his possession until required for use by him at a future date, but prefers to deposit it with the bank with which he usually transacts his business, until a need for this money arises. Here, too, with the passing of the money to the bank, the "depositor" receives in exchange the right to demand and receive at pleasure not that which he paid in, but an equivalent amount. This is also an exchange of rights, the one given up by the depositor being the right to immediate use of the money by the bank, in exchange for the bank's right given to the depositor to demand a sum of money from it at any time.

The following is also an illustration of an exchange of rights, as for example, where a bank, for the convenience of its customer or depositor undertakes to collect a note due to him by some third party, in which case the amount paid to the bank, in money, by the promisor, is passed to the credit of the promisee as a deposit. In this case, the bank has received money for the account of the depositor, and has given to him in exchange for this money a right to draw at pleasure for the amount or any part thereof, the property in the money actually paid having passed absolutely to the bank in exchange for the right to draw.

The exchange of rights is also illustrated where a bank buys a bill of exchange from a merchant, or when it sells its own bill of exchange drawn on its correspondent, both being in effect exchanges of money against a right or of a right against money.

We next come to a consideration of a third form of banking operation, which exists in the issuance of bank notes. This is in effect only another form of liability, which differs in appearance, though not in substance, from the liability for deposits. A bank note is defined as a duly certified promise on the part of the bank to pay on demand, a certain sum of money, and is adapted for circulation as a convenient substitute for the money which it promises. It is issued by the bank and can be issued only to such persons as are willing to receive the engagement of the bank in this form, instead of receiving money or instead of being credited with a deposit. Thus, the so-called borrower, who in the first instance has been credited with a deposit and to whom the bank is therefore to this extent liable, may prefer to draw the amount in notes of the bank and to use them in making his payments. In this case also, as well as in the preceding ones, the bank does not give up actual money, for if the depositor pays in money, and receives notes, or receive notes in satisfaction of a demand of any kind against the bank, he foregoes the use of the money itself and consents to receive in its stead a promise to pay on demand, the evidence of which promise is in the form of notes.

In all cases cited, therefore, an exchange of rights is the result. It is an acceptance of a present value by the bank for an exchange of a right to demand money at a future date. While this does not exclude the possibility of an exchange of rights of present values, still the majority of transactions passing through a bank's operations consist of the exchange of such rights which are in substance of present value to the bank and of future value to those with which it deals, and sometimes vice versa. The first case is best illustrated in depository accounts, while the reverse is true in the process of discounting.